Bankers Will Be Boys

Apparently, Horst Siebert has written an article at VoxEU describing three types of bad behavior committed by bankers that helped produce the crisis:

They committed cognitive errors involving biases towards their own prior beliefs; too many male bankers high on testosterone took too much risk, and a flawed compensation structure rewarded perceived short-term competency rather than long-run results.

I say “apparently” because I can’t get through to VoxEU despite trying three different browsers and two different computers (can’t ping it, either). But there’s a long summary over at naked capitalism.

Everything he says sounds right, although the classification of three behaviors is a little frustrating, because they fall into three different categories. Confirmation bias is just part of the human condition; I’m not sure what we can do about that, short of inventing Cylons (and we know where that leads). Testosterone is part of the male branch of the human condition; so the potential solution is to have more female bankers. And flawed compensation structures are completely human creations, so we can definitely do something about them.

Yves Smith hones in on that last point:

The “bad incentives” turn of phrase, while narrowly correct, does not put blame where blame was due. The industry’s leadership designed the compensation schemes; they were not visited upon them by a mysterious outside force.

I’m familiar with confirmation bias (I suffer from it myself, of course) and with flawed incentive structures, but I found the second point the most interesting. Here’s an interesting excerpt from Siebert:

In a fascinating and innovative study, Coates and Herbert (2008) advance the notion that steroid feedback loops may help explain why male bankers behave irrationally when caught up in bubbles. These authors took samples of testosterone levels of 17 male traders on a typical London trading floor (which had 260 traders, only four of whom were female). They found that testosterone was significantly higher on days when traders made more than their daily one-month average profit and that higher levels of testosterone also led to greater profitability – presumably because of greater confidence and risk taking. The authors hypothesise that if raised testosterone were to persist for several weeks the elevated appetite for risk taking might have important behavioural consequences and that there might be cognitive implications as well; testosterone, they say, has receptors throughout the areas of the brain that neuro-economic research has identified as contributing to irrational financial decisions.

Let’s say you could provide reasonably convincing evidence that you would get better long-term results by using a team that had an even balance of men and women. Could you get away with an affirmative action policy that instituted a quota for female traders? According to the Supreme Court’s extremely mushy and frustrating “intermediate scrutiny” standard for gender discrimination, you would have to show that the policy is “substantially related” to the achievement of “important governmental objectives.” (I assume that there’s enough of a state-action component here, since we’re dealing with major, federally-regulated financial institutions.) Reducing systemic risk sounds like an important objective to me.

Originally published at The Baseline Scenario and reproduced here with the author’s permission.

One Response to "Bankers Will Be Boys"

  1. Elmer Rich III   May 23, 2009 at 8:57 pm

    We’d purpose that, sure, some behaved “badly.” Duh. That’s what we want them to do!Jump into the pit with risk and wrestle it. I don’t want to do that job! Do you?Probably more useful is to consider that the type-a, hi-testosterone guys did what we need them to do. But the ground shifted under them, the boundaries were dramatically expanded (or dissolved) and they went….doing, well what they do best.Is that “wrong?” The consequences are, but the behavior itself? Depends on context.To us it’s like in the middle of a tight course, Grand Prix auto race the promoter said: “The whole world wants in on the action so you’re racing from London to…Peking….on regular roads. For a whole LOT more money!!” The “teams” (firms) did what they do best….accelerator down.Ooops! “Who let the dogs out? Woof, woof, woof…”As for “Reducing systemic risk sounds like an important objective to me.” !!??The global financial system is:- Expanding exponentially- Increasing in transparency and velocity- Liquidity set to explode with retirement of Boomers across the globe- The world CRAVES returns…now everybody, everywhere- Etc…….Time’s arrow moves in 1 direction. The toothpaste will not go back in…you assume we can “control” systemic risk!? Or have any influence on it at all? Quaint notion.At best…at BEST…we’ll (maybe) “surf” it.Cheers